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A Creative Way to Sell Your Business

By Barbara Taylor October 29, 2010 7:00 amOctober 29, 2010 7:00 am

Courtesy Ohio Employee Ownership CenterPoster Boys: The original eight members of the Select Machine co-op.

One of the positive byproducts of this recession may be that it has forced many of us to consider different ways to operate our enterprises. Business as usual has been replaced with ingenuity, fresh thinking and alternative solutions.

That’s also true when it comes to selling those businesses. Many sellers have had to put their exit plans on hold, which is why this might be the time to take a closer look at an unfamiliar and misunderstood exit tool: selling your business to employees through a worker-owned cooperative.

Don’t let the word cooperative throw you. “There is a cultural misimpression of cooperatives which stems from an earlier era when cooperatives, like labor unions, were trying to address imbalances in the nation’s economy,” said Mark Stewart, an Ohio lawyer who specializes in cooperative law. “The perception that co-ops are counter-culture persists.”

One of Mr. Stewart’s clients — Select Machine of Brimfield, Ohio — has become a leading example for using a co-op as an exit strategy. The company, established in 1994, provides custom parts for demolition and construction equipment. The company had 11 employees and sales of $2.5 million in 2006, when the owners, Doug Beavers and Bill Sagaser, decided to sell.

Both men were in their 50s at the time, and neither had a family member who wanted to step in and run the company. But when they started talking to potential buyers about buying the business, they were told that the bulk of Select Machine’s value was in its client list. Much of the rest of the assets — including its employees — would most likely be jettisoned after a sale.

That gave the owners pause. “These are our guys, our family, and we wanted them to keep on working,” Mr. Sagaser said in an interview at the time.

Eight of those guys stepped up and became members of a cooperative that bought the business. Mr. Beavers and Mr. Sagaser sold 30 percent of their stock to the co-op in the first of several installments. The co-op took out loans in the amount of $324,000, which were personally guaranteed by the sellers. The loans were paid off out of company profits over three years; subsequent installments have been owner-financed. Today the co-op owns 59 percent of the company’s stock, and sale of an additional 10 percent is now on the table.

“Business owners who are exploring this strategy need to be flexible and totally committed to the sale of the business to employees,” said Mr. Beavers. “All aspects of the business must be fully exposed, and competent leadership from within must be explored. That person or persons will work very closely with the selling owner.”

To be clear, this is not the same thing as an employee stock ownership plan. With set-up fees that can be $50,000 or more and with annual administrative fees of $10,000 to $15,000, the expense and complexities of a stock plan can be too much for smaller businesses. But there are similarities. The company is appraised using fair-market value, a feasibility study is usually performed beforehand, and the selling owner typically sells ownership in stages over time. The seller can also defer capital-gains taxes.

Here are some situations where selling to an employee cooperative may be a good option:

1. The business’s owners are at least five years away from wanting to be fully retired and are willing to stay on throughout the transition.

2. The business is small (fewer than 25 employees), profitable and relatively debt-free.

3. The business already has a culture of participatory management.

So, why do so few people even know that selling to an employee cooperative is an option? According to Bill McIntyre, program director at the Ohio Employee Ownership Center, worker-owned cooperatives remain largely ignored by professional service providers as an exit-planning tool for clients.

“Service providers (attorneys, accountants, financial advisers, bankers) would never recommend a particular course of action for a client if they did not have a basic understanding of that course of action themselves,” Mr. McIntyre said. “Service providers are woefully ignorant of employee-owned coops (and ESOPs), and therefore do not recommend them as something for their clients to consider.”

Doug Beavers continues to be glad that he considered selling his business to employees using a worker-owned cooperative. While several of its competitors did not survive the recession, Select Machine experienced a temporary dip in sales but is fully staffed today and working with a six-month backlog.

“It has been a positive experience,” Mr. Beavers said. “I would do it again.”

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You're the Boss offers an insider's perspective on small-business ownership. It gives business owners a place where they can compare notes, ask questions, get advice, and learn from one another's mistakes. The blog also offers analysis of policy issues, and suggests investing tips.